Industry concerns about ESMA's latest MiFID II Q&As

Industry concerns about ESMA's latest MiFID II Q&As

ESMA’s latest update to its MiFID II investor protection Q&As includes a useful table at the beginning showing questions covered, their legislative reference and when the answers were issued or last updated.

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Some of the latest additions to the Q&A’s are causing concerns within the industry:

The Q&As on post-sale reporting provide detailed commentary on how firms should calculate depreciation in the value of an investment portfolio of more than 10%, which give rise to an immediate reporting obligation to clients. In particular, they confirm that portfolios must always be valued daily, with appropriate estimations for assets not regularly traded or priced. They also confirm that the obligation begins on 3 January 2018, even if that is part way through a client reporting period.

On costs and charges, ESMA makes no reference to or allowance for the fact that MiFID II explicitly excludes the impact of market risk from reportable costs. It expects the industry to use the methodology in the PRIIP KID for ex-ante costs, which includes implicit market risk. Also, it expects UCITS and other funds not currently subject to the PRIIP KID Regulation to provide ex-ante transaction costs in accordance with the methodology for new PRIIPs. This methodology is less problematic for the industry than the main PRIIP methodology, but it nevertheless includes (or is silent on) a number of aspects that are causing firms practical difficulties in implementation, for example due to the current absence of market data.

Question 11 covers situations where the “manufacturer” of the financial instrument does not make information available to distributors in line with the PRIIP KID requirements. These situations could include, for example, listed securities issued by corporates and financial instruments of any kind from third countries. Nonetheless, ESMA expects investment firms to base their calculations on the PRIIP KID methodology and says that estimates must be reasonable and sufficiently accurate, for both ex-ante and ex-post costs and charges. If an investment firm cannot be certain that the estimate is sufficiently accurate, there is a strong implication that it should consider whether it is appropriate to market, sell or select that instrument. This could have implications for access by EU investors to non-EU financial instruments.

ESMA’s Q&A on the application of the appropriateness test for execution-only or reception/transmission only services is of concern to platforms and fund managers. MiFID I provides that some instruments are automatically non-complex, and that others must be considered on a case-by-case basis against the complexity criteria. MiFID II makes minor adjustments to the list of non-complex instruments and appears otherwise to leave the current process unchanged. However, ESMA states that non-UCITS (including all listed closed-ended AIFs) are “complex per se”.

ESMA previously put forward this interpretation in its advice to the Commission on the Level 2 Regulation, but the Commission did not adopt the text proposed by ESMA. If ESMA’s answer remains unchanged, this could have significant ramifications for platforms and other forms of digital distribution.